May 10 (Bloomberg) -- Spain said it would take over Bankia
SA and may inject public funds into the banking group with the
most Spanish real estate as the government prepares the fourth
attempt to overhaul the financial system.

Spain’s bank bailout fund will convert its 4.5 billion
euros ($5.8 billion) of preferred shares in Bankia’s parent,
Banco Financiero y de Ahorros, into voting shares, the Economy
Ministry said in a statement yesterday. That will give it a
controlling stake of 45 percent in Bankia, the ministry said,
adding the government will provide the capital that’s “strictly
necessary” to clean up the lender.

The takeover adds momentum to Prime Minister Mariano
Rajoy’s drive to shore up Spain’s financial system as concerns
about possible hidden losses on banks’ books push up the
government’s borrowing costs. The announcement came two days
after Bankia Chairman Rodrigo Rato said he would step down, to
be replaced by Jose Ignacio Goirigolzarri, a former second-in-command at Banco Bilbao Vizcaya Argentaria SA.

“This is a de facto nationalization of Bankia -- the news
is really quite shocking,” Mauro Guillen, a professor of
international management at the Wharton School at the University
of Pennsylvania in Philadelphia, said in a phone interview.
“The new guy from BBVA now comes in with the full backing of
the government to carry out his strategy.”

Shares Fall

Bankia fell as much as 3.8 percent, and was down 3.6
percent at 2.05 euros by 3:10 p.m. in Madrid, taking the decline
since its initial public offering in July to 45 percent. Spain’s
Ibex 35 share index rose 2 percent.

As concern over how Spain will finance a cleanup of its
banking system stokes a resurgence of the sovereign debt crisis,
Rajoy said he will tomorrow outline his plan to bolster
confidence in the industry.

The gap in yield between Spanish 10-year bonds and German
bunds grew yesterday to the widest since November. Spain’s 10-year bond yield declined to 6.04 percent today from 6.08 percent
yesterday.

Rato was asked to quit because of the economic situation,
the ruling People’s Party’s deputy leader Maria Dolores de
Cospedal said today. Bankia group has about 300 billion euros of
assets, about a third of the size of the economy, making it
crucial to the government’s bid to convince investors it can
shore up lenders without endangering public finances.

Public Funds

The new management must present “as soon as possible” a
strengthened restructuring plan and the lender should “consider
the contribution of public funds to accelerate and increase its
cleanup,” the Bank of Spain said yesterday.

The conversion means BFA won’t have to buy back the
preferred shares, which carry an annual interest rate of 7.75
percent, in 2015 as originally planned. Those securities were
acquired by rescue-fund FROB in 2010 in a first attempt by Spain
to bolster a banking industry reeling from the property
collapse. Two other efforts followed, most recently in February.

Until now, BFA has been controlled by 300-year-old Caja
Madrid and six other savings banks that combined in 2010 to
create the Bankia group under Rato’s leadership.

Eliminating Cajas

The nationalization will erase the stakes held by the
savings banks, which were traditionally linked to regional
administrations and dedicated part of their profit to social and
cultural projects. A priest, Francisco Piquer, founded Caja
Madrid in 1702 using alms to fund loans for the destitute and
masses for the dead.

“What’s most positive is the elimination of the influence
of the savings banks by taking over BFA,” said Alberto Recarte,
who served on Caja Madrid’s board for 18 years. “Now it’s just
the state that’s in charge. The time of the savings banks has
gone forever.”

The Bank of Spain, which hailed Bankia’s IPO in July as
“very positive,” came in for criticism today. Josep Duran i
Lleida, parliamentary chief of the Catalan party and a Rajoy
ally, said Governor Miguel Angel Fernandez Ordonez hadn’t paid
enough attention to supervision, eroding the regulator’s
prestige.

The European Union is discussing the bailout of Bankia with
the Spanish authorities, Antoine Colombani, spokesman for EU
Competition Commissioner Joaquin Almunia, told reporters today
in Brussels.